Why Have Private Chinese Companies Stopped Investing Altogether?

Workers
distribute packs at S.F. Express in Shenzhen, China, on Nov. 11, 2013.
Private companies in China have stopped to invest in further expansion
in 2016. (ChinaFotoPress/ChinaFotoPress via Getty Images)

Previously the engine of relatively efficient growth, it
looks like the private sector has given up in China. Investment by
private companies went negative in June and decreased another 0.6
percent in July. That’s right, negative growth month over month,
something completely unfathomable during the boom years of above 20
percent growth just a few years ago.
“We believe private [investment] slowdown is more structural this
time, dragged by weaker investment return and falling business
confidence amid limited reforms and deregulation. Strong State Owned
Enterprise (SOE) investment is unlikely to fully offset the weakness,
instead, it could create more excess capacity and deteriorate capital
returns,” the investment bank Morgan Stanley writes in a note.
For the first half of 2016, private investment is only up 2.4 percent
over the year. This is worrying because the private sector is
responsible for most of China’s real economic development and relatively
efficient capital allocation.

The government will try to coopt the private sector into spending through monetary and fiscal policies.

— Viktor Shvets, global strategist, Macquarie Securities

To balance the decline in private investment, the state used SOEs as
countercylical fiscal policy instruments. SOE’s share of investment in
fixed assets rose 23.5 percent compared to the first half of 2015.
Because of inefficient investments from years prior, overcapacity, and mounting defaults, Morgan Stanley thinks this is ill advised.

(Morgan Stanley)

Morgan Stanley notes that private companies are avoiding sectors such
as mining and steel, which are plagued by overcapacity. But they also
cannot invest in the service sector as they please because of high entry
barriers and too much regulation.
Private investment outside of manufacturing—read services—declined
1.1 percent in the first half of 2016 over the year, compared to 15
percent growth in 2015. SOEs, on the other hand, boosted investment in
services 39.6 percent.
So much for a successful rebalancing to services, which has been
considered a linchpin of the effort to reform the Chinese economy. It’s
happening, but at the behest of the state.

(Morgan Stanley)

Overall, there just aren’t enough good investment opportunities
around and the borrowing costs for private firms are as high as 15
percent, much higher than the return on assets. Unlike their state-owned
counterparts, private companies actually try to be profitable—and they
don’t see profits in China’s slowing economy.
In addition, the lack of progress in the much-touted reform agenda
hurts business confidence and financial visibility. Zhang Qiurong, who
owns a specialty paper business told the Wall Street Journal: “The economic outlook is really grim. You have to survive, that comes first.”
Mr. Zhang’s feelings are reflected in the China Economic Policy
Uncertainty Index, which has been increasing steadily in 2016, almost
reaching the record levels of uncertainty seen during the last handover
of Communist Party leadership in 2012.

The economic outlook is really grim. You have to survive, that comes first.

— Zhang Qiurong

The result of the uncertainty? Companies are stashing money at the bank and just won’t spend and invest it.
“Despite loads of liquidity pumped into the market, enterprises would
rather bank the money in current accounts in the absence of good
investment options, which is in line with record low private investment
data,” Sheng Songcheng, head of statistics and analysis at the People’s
Bank of China said earlier this year. Cash and short-term deposits at
banks grew 25.4 percent in July.
To counter concerns of crashing private investment in China, the
regime promptly announced private-public partnership (PPP) investment
programs worth $1.6 trillion and spanning 9,285 projects, first reported by Xinhua on Aug. 15.
“The government will try to coopt the private sector into spending
through monetary and fiscal policies,” says Viktor Shvets, global
strategist at Macquarie securities.
The problem is that this strategy is unlikely to work.
“The impact of PPP on China’s investment growth is likely to be
limited, considering the small share of PPP projects in execution (less
than 0.5% of total [investment]), the still low participation ratio by
private investors … International experience shows that private
financing of public investment entails large fiscal risks in the absence
of a good legal and institutional setup,” writes Morgan Stanley. And a
good legal and institutional set-up is not what China is known for.
If the PPP and short-term monetary and fiscal stimulus won’t work, China actually has to deliver on reforms to get the private sector to spend again.

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ROLAND SAN JUAN was a researcher, management consultant, inventor, a part time radio broadcaster and a publishing director. He died last November 25, 2008 after suffering a stroke. His staff will continue his unfinished work to inform the world of the untold truths. Please read Erick San Juan's articles at: ericksanjuan.blogspot.com This blog is dedicated to the late Max Soliven, a FILIPINO PATRIOT.
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